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Payroll Outsourcing: Should Your Small Business Do It?

Payroll OutsourcingPayroll Outsourcing
min read
August 23, 2023

Managing a payroll can often feel like spinning plates. You need great time and attendance tracking, to accurately calculate pay and taxes, and make sure your team's wages are paid on time.

Time consuming? Yup, it certainly is.

If you've asked yourself whether there's a more efficient way of running payroll, we may have just the magic words for you: payroll outsourcing. 

What's payroll outsourcing, and how can it help your business? Let's find out. 

What is Outsourcing in Payroll?

Payroll outsourcing is when a business hires an external agency to handle its payroll functions, like processing employees' pay and taxes. 

These outside parties not only process regular wages but can also manage bonuses, deductions, and other compensation-related matters. 

Many companies offering payroll services help businesses pay everyone from full-time employees to part-time freelancers and other types of contingent workers like seasonal and temporary staff. Payroll outsourcing solutions often also cover payments to contractors. Payroll outsourcing solutions often also cover payments to contractors. 

Bonus tip: With Hourly, running payroll is as quick as pressing a button. The easy-to-use payroll platform also syncs directly with your workers' comp policy, so you get accurate workers' comp premiums down to the penny.

How Does Payroll Outsourcing Work? 

Payroll outsourcing works by hiring a third-party provider to handle and process employee wages and related taxes. All you or your HR department need to do is forward the necessary employee information to your chosen payroll agency. 

This payroll data usually includes details about employee hours, overtime, paid leave, bonuses, and other relevant information. 

Payroll outsourcing providers take this raw data, calculate withholdings, and ensure that wages are paid out promptly—whether that's through direct deposit or sending out paychecks. 

They also take care of filing taxes, from standard income tax to Social Security and Medicare taxes. 

Lastly, they handle all the paperwork, such as generating tax forms.

Why Should You Outsource Your Payroll?

Outsourcing payroll saves time and money, reduces errors, ensures compliance with tax laws, and allows businesses to focus on core operations. Let's go deeper into its benefits.

Time and Money Savings

When you do your own payroll, you have to juggle multiple interconnected tasks, like matching the hours logged by team members—whether regular or overtime—with the right pay. Plus, you need to factor in sick leave, vacation, and any unpaid breaks.

One survey of 1,000 business owners showed that it takes an average of five hours per pay period to do payroll. Assuming there are 26 bi-weekly pay periods, that's the equivalent of over 16 workdays. 

Frees Up Resources and Reduces Errors

Payroll processing also puts considerable strain on financial, physical, and human resources because of the many complexities involved and the sheer volume of payroll data. 

You'll need to review pay variables like overtime, bonuses, commissions, and deductions for each employee. At the same time, you also have to consider differences in employment contracts, such as in terms of benefit eligibility and commission structures. 

Having to account for so many factors when calculating every employee's paycheck means payroll errors are easy to make. Payroll companies are less likely to make payroll mistakes because they're experts in the field.  

Ensures Tax Compliance

Tax compliance is another key area that adds to payroll processing challenges. Businesses need to stay on top of ever-changing federal, state, and local tax regulations to avoid penalties, reviews, and substantial financial and reputational damage. 

A case in point is California. The state's progressive stance on workers' rights makes its payroll laws subject to regular revisions. For example, the introduction of the gig economy led to legislative responses in California, like Assembly Bill 5 (AB5), which has affected the classification of independent contractors. 

Payroll Outsourcing Services

Here are seven types of tasks you can say goodbye to when you hire a payroll outsourcing company. 

1. Employee Account and Payment Management

  • Setting up employee payroll accounts and payment methods
  • Wage and salary calculations, including overtime, bonuses, and applicable employee deductions
  • Processing and issuing payments to employees via direct deposit, check, or pay cards
  • Garnishment management of court-ordered wage garnishments
  • Employee self-service portal access to payroll data and pay stubs

2. Benefits and Compensation Handling

  • Management of employee benefits, such as healthcare and retirement
  • Benefit accruals and tracking, including holiday, sick, and vacation leave
  • Workers' compensation reporting and insurance management
  • Administration of 401(k) contributions, flexible spending accounts, and other employee benefit programs

3. Payroll Tax Processing

  • Calculation, tax filing, and remittance of payroll tax payments to the proper authorities 
  • Management of State Unemployment Insurance Tax Account or SUTA 
  • Handling of year-end tax forms, including W-2 and 1099 preparation and distribution

4. Time and Attendance Control

  • Implementation and management of timekeeping systems
  • Tracking and recording of employee work hours, including overtime 
  • Management of paid and unpaid time-off requests

5. Reporting and Analytics

  • Regular payroll reports, including gross wages, deductions, net wages, etc. 
  • Payroll analytics and insights
  • Year-end reporting and summary

6. Payroll Integration and Processing

  • Mobile payroll solutions
  • Integration with third parties, such as retirement plan administrators, payroll software, and benefits providers
  • Single and multi-state payroll processing
  • Real-time payroll processing capabilities

7. Compliance and Record-Keeping

  • Ensuring adherence to local, state, and federal labor and tax laws
  • Maintenance and archiving of payroll records
  • Regular updates to align with changing payroll laws and regulations

Pros and Cons of Outsourcing Payroll for Small Businesses

Companies can often get payroll done quicker, more accurately, and for less money when they outsource—but data security is often a concern. 

Here's a closer look at some of the benefits and drawbacks of letting a payroll firm complete your payroll.


  • Efficiency: Payroll companies use robust payroll software specifically designed to streamline payroll management. So, no more manual data entries or payroll calculations. 
  • Expertise: Payroll companies live and breathe numbers and tax laws. They can devote the necessary resources to stay up to date with the latest changes in regulations and handle complicated payroll scenarios like a restaurant employee working three types of jobs (e.g., bartender + waitress + backup chef) with different hourly rates, tip distributions, and overtime calculations.
  • Cost Savings: Think of your potential savings in time (and how much that's worth), resources, and penalties avoided. 
  • Scalability and Flexibility: If you are scaling across state lines or international borders, you'll need to keep pace with different tax regulations and labor laws. And if you need to add or remove employees, handle seasonal hires, or make direct deposits for multiple locations? A reputable payroll provider has the infrastructure to accommodate that easily. 


  • Less oversight: One of the major concerns of businesses is the shift in direct control that accompanies small business payroll outsourcing. Once you hand over your payroll operations to an external party, you're totally reliant on their capabilities. You can overcome this challenge by using a payroll firm that offers real-time dashboards and alerts and by having someone in-house with a good understanding of payroll. This person can serve as a bridge between your company and the outsourcing provider, ensuring that you're not entirely dependent on external expertise.
  • Data Security: Transferring sensitive employee data to a third party will always have inherent privacy and security risks. You can ask if the provider has relevant certifications that demonstrate their commitment to maintaining high data security levels. You can also ask about insurance coverages related to data breaches or cyberattacks.
  • Impersonal: A third-party provider might not understand your business's unique needs and operational quirks the way an in-house payroll team would. To avoid these kinds of problems, it's important to choose a company with responsive customer service teams that can quickly adapt to your company's unique needs. 

Do Companies Actually Outsource Payroll?

Yes, many successful companies outsource their payroll. According to a Statista survey published in 2022, 12% of firms worldwide have completely outsourced their payroll management in 2019. Another 26% have opted to outsource some payroll functions but keep others in-house, like employee onboarding and holiday benefits administration. 

What Are Your Payroll Outsourcing Options?

Several of the top choices in payroll outsourcing providers are accounting firms, professional employer organizations (PEOs), and payroll outsourcing providers. Here's a snapshot of each: 

1. Payroll Providers

Payroll providers are the pros of the field. They run a business's entire payroll process, including calculating wages, managing deductions, distributing salaries, and ensuring compliance with tax and employment laws.

When it comes to processing payroll, there's nothing like great customer service, too. With Hourly, you can talk to a real person whenever you need a question answered. And they're guaranteed to know their stuff. 

2. Accounting Firms

Accounting firms are often regarded as comprehensive hubs for financial services and are frequently approached by businesses to manage their payroll. They typically present themselves as holistic solutions because of the broad range of services on offer, from managing cash flows to running payroll and fine-tuning budget plans. 

However, they might not have the focus of specialized payroll service providers, whose primary goal is to see to it that employees are paid accurately and on time. 

With such a wide range of responsibilities, the intricacies of payroll–like staying updated with constantly changing employment laws, tax codes, and other payroll-related regulations–can sometimes take a backseat. 

3. Professional Employer Organizations 

A Professional Employer Organization (PEO) is a firm that primarily provides outsourced human resource services to small and medium-sized businesses. This includes payroll administration, employee benefits, and compliance management. 

A PEO acts like a co-employer of your employees, helping you manage a wide range of payroll tasks. This can be a real boon for growing businesses. 

However, a PEO may use standardized processes and systems that work for many of their clients but don't necessarily cater to your specific business needs. 

How to Find the Right Payroll Outsourcing Provider

Like any business decision, outsourcing payroll requires careful consideration, particularly when it comes to choosing your service provider. To make it easier for you, we've compiled a couple of non-negotiables to keep in mind:

1. Stellar Reputation

Start by looking into their reputation. What do their current and former clients have to say about them? Don't forget to search for customer reviews. 

Additionally, a well-regarded payroll firm, in general, is backed by a strong track record or has robust finances. To verify this, look for annual reports or financial statements of the company if they are publicly available. 

For private companies, you can check out research firms like Gartner, Forrester, and IDC. You may also look up industry-specific publications like HR Magazine and Society for Human Resource Management (SHRM) Publications. 

2. Great Customer Service

You need to know if your payroll processor will be responsive if an issue arises. Before signing a contract, you can send an email or make a phone call to their support team with a general question and find out how long it takes before they respond. 

People-first platforms like Hourly have responsive customer service teams that can deliver the help you're looking for whenever and wherever you need it. You can enjoy a seamless high-tech process while still being able to reach an "actual human" when you need to.

Some payroll agencies also offer free webinars or training sessions that can help you judge their willingness to assist clients. You might also want to use a trial period or short-term contract so you can experience their service first-hand. 

3. User-Friendly Technology

A user-friendly and secure system for uploading payroll data can be a significant convenience that can give your business a competitive advantage. 

Any payroll company that uses outdated technology or does not place high importance on security should be avoided. Examples include software that's not cloud-based or one that doesn't allow you to integrate with platforms like QuickBooks.

4. Good Value

The cost of outsourcing payroll shouldn't feel overwhelming. Look for a payroll provider with flexible pricing structures so you can score the perfect plan for your business.

5. Expertise in Regulatory and Legal Compliance 

It's the payroll firm's responsibility to take care of the essential licenses, registrations, and other payroll management requirements they need to operate. 

But you may want to know what these are as part of your due diligence. A typical list may include:

  • Registration with the IRS and the relevant state tax agencies
  • Registration with the state unemployment insurance agency
  • Registration for workers' compensation insurance
  • Payroll certifications, such as those from the American Payroll Association

In addition, the payroll company must also obtain specific licenses to operate in their chosen jurisdiction. 

Streamlining Payroll to Drive Success

Payroll outsourcing is a cost-effective way to take a big load off your shoulders. A great payroll provider has awesome customer service, knows wage and tax laws through and through, and has an easy-to-use platform.

With the right provider, you can stop stressing about payroll and focus on what truly matters—growing your business. How's that for peace of mind?

Now that you know all there is to know about payroll outsourcing, all that's left to do? Get in touch with one!

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